Cerence Inc. — FY2022 Form 10-K
Reporting period: Fiscal year ended September 30, 2022. This is an annual filing, not a standalone fourth-quarter report. Unless otherwise stated, amounts are in U.S. dollars.
Business context
Cerence develops AI-powered virtual-assistant software and connected services primarily for automotive manufacturers and their Tier 1 suppliers. Revenue comes from software licenses, cloud-connected services, and professional services. The company reported deployment in more than 450 million vehicles and estimated its technology was included in approximately 51% of vehicles shipped worldwide during FY2022.
Financial performance and liquidity
| Metric | FY2022 | FY2021 |
|---|---|---|
| Revenue | $327.9 million | $387.2 million |
| Gross profit / gross margin | $230.7 million / 70.4% | $286.1 million / 73.9% |
| Operating income (loss) / margin | $(184.3) million / (56.2)% | $60.6 million / 15.7% |
| Net income (loss) | $(310.8) million | $45.9 million |
| Operating cash flow | $(2.1) million | $74.4 million |
| Cash, cash equivalents and marketable securities | $126.7 million | $166.2 million |
| Total debt carrying value | $270.4 million | $271.3 million |
FY2022 revenue comprised $158.6 million of licenses (down 21.6%), $85.6 million of connected services (down 21.9%), and $83.7 million of professional services (up 10.9%). Revenue declined 15.3% overall. Cost of revenue fell only 3.9%, while gross profit decreased 19.4%.
The $310.8 million net loss included a non-cash goodwill impairment charge of $213.7 million. The company also recorded a $112.1 million income tax provision despite a pretax loss; management attributed the unusual effective tax rate primarily to valuation allowances, goodwill impairment tax effects, stock-based compensation, and jurisdictional earnings mix. Operating expenses excluding goodwill impairment decreased 10.7%, largely from cost-saving initiatives.
Operating cash flow swung from $74.4 million provided to $2.1 million used, reflecting lower earnings before non-cash charges and unfavorable working-capital movements, partly offset by deferred-revenue changes. FY2022 investing cash outflow was $10.6 million and financing cash outflow was $19.6 million. Cash and cash equivalents alone were $94.8 million; marketable securities added $31.9 million.
Debt included $175 million principal of 3.00% convertible senior notes due 2025 and $110.9 million principal under senior credit facilities. The $50 million revolving facility was undrawn at year-end. Management said it expected to meet liquidity needs over the next 12 months; the credit agreement then required at least $75 million of liquidity. Net working capital excluding deferred revenue and deferred costs was $146.1 million.
Material changes and outlook
- License revenue declined amid lower vehicle-production forecasts associated with semiconductor constraints, economic slowdown, the Russia-Ukraine conflict, and China lockdowns.
- Connected-services revenue fell mainly because a legacy contract acquired by Nuance was winding down. Management expected deferred revenue to decline further as that relationship ran off.
- Professional-services revenue grew, supported by integration and customization work. However, the company reported increased contractor costs in this area.
- Management expected FY2023 reported license revenue to be negatively affected by limiting new fixed license contracts, which had previously accelerated revenue recognition. It described FY2023 as a transition year but supplied no numerical revenue or earnings guidance in the provided filing text.
- Five-year backlog was estimated at approximately $1.1 billion, down from $1.3 billion a year earlier, including about $0.8 billion of variable forecasted royalties. Management cautioned that backlog depends on vehicle shipments, contract scope, and currency movements and may not predict actual revenue.
- On November 22, 2022, after fiscal year-end, Cerence amended its credit agreement for a covenant adjustment period from March through December 2023: minimum liquidity rose to $125 million, capital expenditures were capped at $7.5 million, and the net secured leverage limit became 4.25:1; the net total leverage test was waived. The amendment also changed the rate benchmark to SOFR. This is a significant post-year-end liquidity and covenant development.
Risks, contingencies, and unusual items
- Automotive production cyclicality, semiconductor availability, inflation, interest rates, recession risk, COVID-19 effects, and geopolitical disruption may affect demand and customer production.
- Customer concentration, pricing pressure, lengthy design-to-production cycles, contract cancellations or delays, and competition from large technology companies and focused regional providers could constrain revenue and margins.
- Goodwill impairment followed a sharp decline in estimated reporting-unit fair value: the September 2022 estimate was $713 million, versus approximately $995 million at the June 2022 interim test. Additional impairment remains possible if assumptions or conditions worsen.
- The $107.6 million Netherlands deferred-tax-asset valuation allowance contributed to tax volatility. Cerence also reported $76.6 million of gross unrecognized tax benefits.
- The 3.00% Notes’ conditional conversion feature was triggered during FY2022, but the Notes were not convertible at September 30 and none were converted. Future conversions could require cash settlement or dilute shareholders.
- A securities class action and related derivative lawsuits allege disclosure-related misconduct. Cerence intends to defend the claims; it said it could not estimate a reasonably possible loss range. Other recorded legal accruals were not material.
- The independent auditor issued unqualified opinions on the financial statements and internal controls; management and the auditor reported effective internal control over financial reporting.
Important facts for investors to verify
- Reconcile backlog and remaining-performance-obligation disclosures: the overview gives $303.5 million of five-year remaining performance obligations, while the note’s table reports $323.455 million of estimated revenue for unsatisfied or partially unsatisfied obligations.
- Track FY2023 revenue and cash conversion as fixed-contract contributions decline and the legacy connected-services contract winds down.
- Assess headroom against the amended $125 million minimum-liquidity covenant, including the applicable definition of liquidity, permitted deductions, and subsequent cash movements.
- Review the goodwill valuation assumptions and sensitivity to revenue forecasts, market multiples, and discount rates, as well as the realizability of deferred tax assets.
- Monitor customer shipments and concentration, the timing of cash collection on converted minimum-purchase deals, and the outcomes of the securities and derivative litigation.
- Confirm future Notes conversion status, debt repayment requirements, and the effects of adopting the new convertible-debt accounting standard in FY2023.